FuzzMartin
Introduction
So far, Riot Platforms (NASDAQ:RIOT) has yet to find a place in our portfolio, our previous thesis showed that RIOT was overvalued at $3bn and expected about 10% shareholder dilution over the next few quarters as RIOT continues to ramp up mining capacity. 6 months later, RIOT is now trading at $2.1bn while shareholder dilution stands at 17% since our last coverage. So far, RIOT has performed according to our expectations.
In this article, we would like to discuss in detail this statement that we made in our previous coverage:
The next Bitcoin halving cycle is going to put the entire Bitcoin mining sector at risk. The 2024 Bitcoin halving will double the sector average total business cost per Bitcoin or cut Bitcoin mining revenue by half. The sector average total business cost per Bitcoin ranges from $30k-$60k while the currently known Bitcoin all-time high is only $69,000. Many Bitcoin mining companies might not survive a 50% cut in Bitcoin mining revenue.
Looking from this perspective, RIOT looks awfully similar to Core Scientific (CORZQ) before the storm. Let's discuss this in detail.
A Core Scientific In The Making?
RIOT's Cost Structure Breakdown
Core Scientific was one of the biggest publicly traded Bitcoin (BTC-USD) mining companies during its era. Yet, it failed to survive the Bitcoin bear market and the rise in mining costs.
The emphasis here is not on the bear market but on the rise in mining costs. This is because RIOT's weakness has always been its business cost efficiency. Table 1 illustrates how RIOT's all-in business cost (total mining cost, TMC) severely trails behind other competitors like CleanSpark (CLSK).
Even with the power credit that RIOT boasted about in 2023Q3, RIOT's total business cost efficiency still trailed behind competitors. Moreover, these credits are not a reliable steady stream of income. Until RIOT can consistently produce consistent credit as big as 2023Q3, we won't consider it just to be conservative.
Table 1. Comparison of Historical Total Mining Cost per BTC
| QR | RIOT's TMC per BTC | CLSK's TMC per BTC |
| 2023Q3 | 110,000 or 65,900 w/credits | 60,452 |
| 2023Q2 | 59000 or 51,500 w/credits | 37,050 |
| 2023Q1 | 46200 | 33,276 |
| 2022Q4 | 53150 | 30,500 |
| 2022Q3 | 55000 | 35,627 |
Source: Author
When we break down RIOT's cost structure, we can observe that RIOT's primary costs are costs of revenue (electricity and hosting costs), depreciation of mining equipment, and SG&A (sales, general, and administrative costs). Table 2 illustrates the breakdown (%) of RIOT's cost structure. The figures were shown in the "per BTC" unit to better understand the cost related to mining a single Bitcoin.
Referring to Table 2, we can see that aside from 2023Q3, RIOT's cost of revenue isn't that bad. This $10,000 to $13,000 range is pretty much the industry average. SG&A remains relatively the same over the quarters at around $20,000 per BTC. The dip for the period 2022Q4 to 2023Q2 simply coincided with the Bitcoin bear market. On the other hand, SG&A remains relatively the same over the quarters at around $20,000 per BTC.
The bulk of RIOT's mining cost is derived from the depreciation of the mining equipment. This figure will continue to increase for several reasons:
- RIOT has a near-term expansion plan to add another 26 EH/s worth of mining equipment at the cost of $16 EH/s per 1 EH/s or $416mil through 2025. These are all depreciable assets.
- RIOT has a long-term plan to achieve 100 EH/s via purchase options with MicroBT.
- The halving event will double the depreciation cost per BTC (a matter of denominator).
Table 2. Breakdown of RIOT's Cost Structure
| QR | Cost of Revenue per BTC (self-mining only) | Depreciation Cost per BTC | SG&A per BTC | Total All-in Business Cost per BTC |
| 2023Q3 | $28,200 (26%) | $58,300 (53%) | $26,220 (24%) | $110,000 |
| 2023Q2 | $13,323 (22%) | $37,300 (61%) | $11,150 (18%) | $59,000 |
| 2023Q1 | $10,354 (22%) | $28,000 (61%) | $6000 (13%) | $46,200 |
| 2022Q4 | $13,200 (25%) | $22,000 (41%) | $18,000 (34%) | $53,150 |
| 2021Q4* | $11,500 (26%) | $4,085 (9%) | $28,807 (65%) | $44,400 |
| 2021Q3* | $10,000 (20%) | $9,442 (19%) | $31,000 (61%) | $50,500 |
Source: Author
The Implications
In short, RIOT's cost structure breakdown tells us the following:
At best, RIOT could be a shareholder-diluting & loss-making business. At worst (and also likely) case scenario, RIOT could go out of business.
RIOT's average total business cost over the past 4 quarters is $67,000. Post halving, we estimate RIOT's total business cost will triple to $183,000 (= 2x the trailing 4Q average cost of revenue + 2x Q3 depreciation + 2x the trailing 4Q average SG&A). At the same time, we only expect Bitcoin to hit $90k in the coming bull market (which will average $66,000 during the bull market period). Unless Bitcoin surprises to the upside beyond $180k, we do not expect any distributable income to shareholders.
Table 3. RIOT's estimated Cost Structure Post-Halving
| Cost of Revenue per BTC (self-mining only) | Depreciation Cost per BTC | SG&A per BTC | Total All-in Business Cost per BTC | |
| Post Halving | $32,000 | $116,000 | $35,000 | $183,000 |
Source: Author
If RIOT can't cover the 2 most fundamental costs of Bitcoin mining (cost of revenue and depreciation), the resulting deficit will fundamentally affect the feasibility of RIOT's Bitcoin mining business. So far, it looks awfully similar to Core Scientific. Before this happens (if it happens), we expect exponential shareholder dilution to occur to fund operations. In the meantime, we expect RIOT to continue to trade in tandem with Bitcoin's price movement.
Given the immense risk, RIOT (market cap $2.19bn) will need to trade well below its book value (adjusted: $1.4bn) for a sufficient safety margin to justify an investment. The ideal entry would be to discount depreciable assets by 50%. This translates into a $1bn valuation (= $290mil cash + $66,000 x 7,327 bitcoin holdings + $667.8mil/2 PP&E + $156.9mil/2 Prepaid- $114.7mil total liability)
Verdict
Given RIOT's current cost structure, we couldn't help but feel skeptical about RIOT's business feasibility post-halving event.
At the very least, investors should scrutinize the feasibility of RIOT's 100 EH/s expansion plan where the depreciation cost per BTC could potentially exceed our bull case Bitcoin price target of $90,000.
